FINANCIAL FORECASTING FOR STRATEGIC GROWTH

Long-range planning is a means of systematically thinking about the future and anticipating possible
problems before they occur.

WHAT IS FINANCIAL PLANNING?

Financial Planning formulates the way in which financial goals are to be achieved. A financial plan is
thus, a statement of what is to be done in the future. For instance, if a firm wants to build a factory in
2018, it might have to begin lining up contractors and financing 2016 or even earlier.

PERSPECTIVE OF FINANCIAL PLANNING

For planning purposes, it is often useful to think of the future as having a short-run and a long-run.

The short-run planning in practice usually covers the coming 12 months while financial planning over
the long-run takes to be in the coming two to five years. This time period is referred to as the planning
horizon and this is the first dimension of the planning process that must be established.

The second dimension of the planning process that needs to be determined is the level of aggregation.

Aggregation involves the determination of all the individual projects together with the investment
required that the firm will undertake and adding up these investments proposals to determine the total
needed investment which is treated as one big project.

WHAT ARE THE BENEFITS THAT CAN BE DERIVED FROM FINANCIAL PLANNING?

Among the more significant benefits derived from financial planning are the following.

1. Provides a rational way of planning options or alternatives.

2. Interactions or linkages between investment proposals are carefully examined.
3. Possible problems related to the proposals are identified actions to address them are studied.
4. Feasibility and internal consistency are ensured.
5. Managers are forced to think about goals and establish priorities.

FINANCIAL PLANNING MODELS

1. Economic Environment Assumption

The plan will have to state explicitly the economic environment in which the firm expects to
reside over the plan. (Examples are inflation rates, level of interest rates, and firm’s tax rate.

2. Sales Forecast
An externally supplied sales forecast considered the “driver” shall be the “heart” of all financial
plans. The user of the planning model will supply this value and most other values will be
calculated based on it.
 Determinants of Growth Rates

A firm’s ability to sustain growth depends explicitly on the following factors:

 Profit Margin- An increase in profit margin will increase the firm’s ability to generate
funds internally and thereby increase its sustainable growth.

 Dividend Policy- A decrease in the percentage of net income paid out as dividends will
increase the retention ratio. These increases internally generated equity and thus increases
sustainable growth.

 Financial Policy- An increase in the debt-equity ratio increases the firm’s financial
leverage. Because this makes additional debt financing available, it increases sustainable
growth.

 Total Asset Turnover- An increase in the firm’s total asset turnover increases the sales
generated for each peso in the assets. This decreases the firm’s need for new assets as
sales grow and thereby increases the sustainable growth rate.

3. Pro forma Statements

A financial plan will have a forecast statement of financial position, income statement, statement
of cash flows and statement of stockholders’ equity. These are called pro forma statements which
will summarize the different events projected for the future.

4. Asset Requirements
The financial plan will describe projected capital spending. At a minimum, the projected
statement of financial position will contain changes in the total fixed assets and net working
capital.

5. Financial Requirements
The financial plan will include a section about the necessary financing arrangements. This part of
the plan should discuss dividend policy and debt policy.

6. Additional Funds Needed (AFN)

After the firm has a sales forecast and an estimate of the required spending on assets, some
amount of new financing will often be necessary because projected total assets will exceed
projected total liabilities and equity.
Activity

Answer the following review questions.

1. Compare your prior understanding to “Financial Planning” before you have read this lecture and
after you have read this. Are they the same? Or different? State your reasons.
2. Why is financial planning important?
3. What is the purpose of financial planning models in the concept of financial planning?